Investors question deal's cost Financial results of two utilities strikingly different


Yesterday's merger announcement triggered a 3.8 percent decline in BGE's shares, but professional investors disagree on whether the deal is a plus or minus for the Baltimore-based utility.

Baltimore Gas and Electric Co. stock, one of the most popular investments among Marylanders, fell by $1 yesterday, to $25.13. The reason: Some investors thought BGE agreed to pay too high a price for Potomac Electric Power Co. of Washington.

Under the terms announced yesterday, BGE shareholders will get one share in the merged company for each share they now own. And each PEPCO shareholder will get almost that much -- 0.997 shares for every share of PEPCO.

But critics pointed out that financial results for the two utilities have hardly been so equal. Industry analysts expect BGE to earn about $2.05 per share this year; they expect PEPCO to make $1.75 -- 15 percent less. BGE's book value per share is substantially more than PEPCO's.

And some analysts have doubted whether, by itself, PEPCO would have been financially strong enough to continue paying its 7.1 percent dividend.

Some investors think that BGE shareholders, as owners of the stronger, more successful utility, should be getting a bigger piece of the new company.

At least two investment houses downgraded BGE stock yesterday. Merrill Lynch in New York lowered its rating from "above average" to "neutral." In Chicago, Duff & Phelps cut BGE from "accumulate" to "source of funds" -- equivalent to "sell."

"The big question is: Did BGE pay too much for it?" said Nathan Partain, Duff & Phelps' utility analyst. BGE may be able to cut enough costs to compensate its shareholders for the dilution of their stock. But that won't be known for years, he said, adding, "I just think the money's dead for a while."

But there's another way to look at it, as even Mr. Partain concedes. Price aside, the PEPCO merger gives BGE -- and its shareholders -- access to new markets, cushion from competition and the necessary weight to compete in an increasingly sharp-elbowed industry.

As more utilities consolidate, the survivors will be big, well capitalized and have healthy mixes of industrial, office and residential customers. Like a merged BGE-PEPCO.

"In light of everything that has to be considered, I think it was a fair deal," said Alex Hart, who follows the utilities for Ferris, Baker Watts, a Baltimore investment house. "This is a company that will have a better competitive position."

PEPCO shareholders are being paid a premium of roughly 20 percent for their shares, which boosted the stock by $1.75 yesterday to $23.25. Nobody should be surprised by that, said Raymond E. Moore, utility analyst for Dillon Read & Co. in New York.

"What I always tell people is that I want to be the acquiree, not the acquiror," Mr. Moore said. "The acquiror is the one that pays up."

BGE shareholders get more out of the deal than promises of long-term growth. In 1997, when the merger is expected to be complete, BGE expects its dividend to be $1.67 per share -- a 7 percent increase from today's level.

And both BGE and PEPCO stock had already risen by more than 17 percent this year before yesterday's announcement.

Over time, stock in the merged company could rise even more -- if the utility can reach out from its established territory and poach industrial business from other utilities. If it can defend its own turf. If it can convert cost reductions resulting from the merger into extra profits.

The uncertainties are huge and the future is murky. BGE and PEPCO officials said yesterday they'll be able to save $1.3 billion in costs over 10 years. But regulators could hand the bulk of the savings to utility customers in the form of lower rates.

BGE faces another large regulatory uncertainty: whether it or its customers must pay the $486 million tab for shutting down the Calvert Cliffs nuclear power plant for two years in the late 1980s.

Even so, analysts said, for local shareholders who like BGE's 6.2 percent dividend, there are no reasons to sell. And maybe good reasons to buy.

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